Qualified Longevity Annuity Contracts (QLACs)
A Free Guide in Plain English
Defer RMDs by converting some of your qualified retirement savings into guaranteed lifetime income
In this guide, we’ll tell you what you need to know about Qualified Longevity Annuity Contracts (QLACs) – how they work, how they’re customized, and how to evaluate whether converting a portion of your qualified assets into future income while deferring required minimum distributions makes sense for you.
What Is a QLAC?
A Qualified Longevity Annuity Contract, or QLAC for short, is a special type of longevity annuity purchased with tax-deferred savings from your qualified retirement account. When you buy a QLAC, you commit money now in exchange for monthly income starting at some point in the future. Why? To reduce your risk in retirement. Turning your assets into guaranteed income for life means you can’t outlive your savings. You can think of it like a pension you buy for yourself. With the Secure Act 2.0, QLAC’s can now be purchased for up to $200,000. The result is insurer-guaranteed income starting 2-40 years from now and continuing for as long as you (or you and your spouse) live.
It’s the only way to defer required minimum distributions (RMDs) applicable to 401(k)s and Traditional IRAs beyond the age of 73 (but no later than age 85).
A QLAC is one of many types of annuities that insurance companies offer. Let’s break down the mechanics:
A QLAC is… an income annuity.
- An income annuity is a contractual agreement between you and an insurance company. In exchange for a lump-sum premium, the insurance company promises to give you steady, guaranteed income for life (or a certain period of time, a less-common version of the product). The size of your payment is specified upfront and depends on factors such as your premium, age, and gender.
More specifically, a QLAC is… a deferred income annuity.
- A longevity annuity (a.k.a. deferred income annuity) begins annuity payments at a future date, typically 2-40 years after the premium is paid. (In contrast, immediate annuities begin payments within 1 year.) During the deferral period, the insurance company invests your money on your behalf. The longer you delay starting to receive payments, the greater the size of the payments they’ll be able to offer you.
A QLAC is… purchased with savings from your qualified retirement account.
- As a qualified annuity, the money used to make the purchase comes from your 401(k), Traditional IRA, or other qualified plan. The annuity maintains the special tax-deferred treatment meaning that you don’t incur any penalties or pay any taxes until income payments begin.
And finally, a QLAC is… exempt from required minimum distribution (RMD) rules.
- RMD rules force those older than 73 to withdraw a specific amount of money from their tax-deferred retirement accounts each year. by converting up to $200,000 of your IRA balance or qualified plan balance to a QLAC. Taxes you would have paid on those RMDs will be deferred until the QLAC starts providing income. That means lower RMDs and lower taxable income during the QLAC deferral period.
In summary, a QLAC is a pension you can buy for yourself using your pre-tax retirement savings. Because of its special designation, QLAC income payments can start later than age 73, reducing your RMDs and associated taxes during that period of time.
Who Is a QLAC Right for?
A QLAC is a powerful way to ensure you have a guaranteed source of income in retirement. That doesn’t mean it’s right for everyone, and it never makes sense to purchase an annuity with your entire portfolio. Here’s the methodology we’ve developed at Blueprint Income to help you think about whether a QLAC may (or may not) be a fit for you:
Consider buying a QLAC if…
- Social Security and/or pension benefits won’t cover your regular expenses
- You’re over 45 and not too far into retirement
- You’ve accumulated more than $250,000 in retirement savings
- You have average or above-average health
- You’re seeking greater certainty in retirement and more of an insurance product
- You’d like to reduce your required minimum distributions and defer associated taxes
A QLAC is probably not the right product for you if…
- Social Security and/or pension benefits cover your regular expenses
- You’re younger than 45 or over 75 years old
- You’ve accumulated less than $250,000 in retirement savings
- You have below-average health
- You’re seeking growth of your money
- You need access to the money immediately
A common objection to QLACs is that they don’t build or provide access to cash value unlike other insurance products used for retirement planning. This is true, but the trade off is access to higher guaranteed income than these more liquid products will offer. Using only a portion (always less than 25%) of your portfolio to purchase a QLAC leaves the rest of your assets to provide liquidity and market upside.
QLAC Longevity Protection & RMD Example
To better understand how a QLAC works, let’s take David, a 65-year-old about to retire, as a example.
First, let’s illustrate how a QLAC offers longevity protection. David has $900,000 in his IRA and he’s worried about running out of money in the future. He would like to be able to spend $5,000 per month in retirement. Assuming his IRA will earn a 5% return and ignoring inflation for simplicity, he will deplete his IRA by age 93.
With $130,000 of his IRA balance, David can buy a QLAC that pays him a guaranteed $5,500 per month starting at age 85 and continuing for the rest of his life. With the QLAC he’ll be able to maintain his lifestyle without depleting his IRA.
Now adjusting the example to explore how the QLAC defers required minimum distributions, let’s instead assume that David has another source of income that will cover most of his expenses in the near future. He’d like to leave his IRA alone to continue accumulating, but RMD requirements force him to start withdrawing at age 72. By transferring $130,000 from his IRA into a QLAC, he can reduce his required withdrawals. Assuming a 28% tax rate, David is able to defer over $35,000 of taxes between ages 72 and 85.
To see how much income is available to you based on your age, gender, and premium level, use the free QLAC quote tool:
QLAC Pros & Cons
Figuring out how long your retirement savings needs to last is difficult. Guaranteed lifetime income can provide you with peace of mind through a paycheck that you won’t outlive. Buying a QLAC with your retirement savings offers a number of benefits:
Insurance is typically thought of as something you buy to protect you and your family from unfortunate events. By turning your assets into income you can’t outlive, the QLAC offers a more pleasant kind of protection: longevity insurance. The longer you live, the more financial value the QLAC provides.
Adding a QLAC to your portfolio can dramatically simplify your retirement planning. Knowing that at a future date you’ll have a paycheck that sustains your lifestyle allows you to manage your remaining assets to a fixed instead of unknown investment horizon. The certainty of guaranteed future income can completely change your approach to investing, withdrawing, and spending.
The RMD is an IRS-mandated minimum amount you must withdraw from your tax-deferred retirement accounts every year starting at age 72. However, QLACs are exempt from this rule, allowing you to delay distributions until as late as age 85. By moving money out of your 401(k) or IRA and into a QLAC, you can reduce the required withdrawals and associated taxes between ages 72 and 85, allowing more of your money to work for you on tax- deferred basis.
The savings that you allocate to a QLAC are protected from swings in the stock or bond markets. And, by selecting the return of premium & death benefit options (more on this later), you can guarantee that all of your savings will be passed onto your beneficiaries if you pass away prematurely.
The QLAC has a simple structure. For any amount of premium you would like to put into the contract, the insurance company will tell you how much monthly income they can offer. There are some decisions you’ll have to make (more on this later) that affect the level of income, but that’s it. The income is net of the insurance company’s expenses and the commission collected by the distributor.
QLACs can be set up as joint annuities, which means that payments continue as long as either you or your spouse are alive. Structuring the contract like this is a great way to preserve financial stability and quality of life for the surviving spouse.
Despite these benefits, longevity annuities are not good for everyone or for all situations. Here are some of the drawbacks:
The QLAC is not liquid and does not have a cash value that can be withdrawn or borrowed from. Instead, the QLAC should be thought of as a future paycheck, like a pension. While the value of your money will be growing during the deferral period, its growth will only be reflected in the income amount and will be otherwise invisible to you.
The income you’ll receive is determined upfront and fixed for the life of the contract, a requirement for the QLAC designation. The funds you use to buy the QLAC will be isolated from the market and any upside (or downside) potential. While this is a positive attribute for those focused on insurance coverage, it isn’t the solution for those seeking a more investment-style product.
The Financial Value of a QLAC
A common question asked when considering moving some of your retirement assets into a QLAC is: what value will I get from this purchase? Typically, pre-retirees look for a quantitative answer, such as an internal rate of return (IRR) or return on investment (ROI), that they can compare to returns generated in their fixed income portfolio.
Unfortunately, the value of a QLAC cannot be understood quite so simply or compared to the return of a traditional financial product on an apples-to-apples basis. Why not? Because calculating an IRR or ROI requires knowing the upfront investment and all future income amounts and dates. As a longevity insurance product, the QLAC will provide you with income for as long as you’re alive, i.e. end date to be determined!
Instead, we can calculate a range of IRRs based on your potential lifespan. The longer you live, the higher the IRR over the life of the product will be. While thinking about your quantitative return should be a part of your analysis, don’t forget about the more qualitative risk reduction and peace of mind the product is providing as well.
To see what the return on your QLAC would be at various lifespans, use the QLAC Quote Tool to run a quote, and then click to view the details. On the details page you’ll see a table with calculated returns for each age.
It is widely accepted that a diversified portfolio is superior to one with singular or uniform market exposure. For nearly every target rate of return, a diversified portfolio of minimally-correlated investments can be constructed that will be lower risk than one investment with equal expected return. When diversifying your retirement portfolio, you will likely select a combination of equity and bond market investments that are appropriate for both your risk-appetite and your investment horizon. In general, your portfolio should tend towards equity investments in the early years and then gravitate towards fixed income investments as you near retirement.
The fixed income assets in your portfolio serve to provide steady, reliable income that is uncorrelated, or inversely correlated, with the equity markets. Sound familiar? This is exactly the purpose that a QLAC or any income annuity serves, with one major added benefit: the annuity will continue to make payments until you die. Allocating a portion of your fixed income portfolio to a QLAC can generate comparable returns (see the Financial Value section) and reduce your longevity risk.
In fact, adding the security of a QLAC to your portfolio can enable you to earn a higher rate of return with the rest of your portfolio. If your QLAC or other annuities generate enough income to cover your retirement expenses, you have even more flexibility to invest the equity portion of your portfolio without putting your livelihood at risk.
One final benefit of owning a QLAC is the ability to invest and manage the rest of your portfolio to a fixed time horizon. That is, you’ll know exactly what type of income your portfolio needs to generate and for how long if the QLAC will be covering your expenses starting at a known point in the future.
Planning for your retirement can be broken down into three primary objectives. For most retirees, these three objectives allow them to meet their retirement goals. These retirement objectives are:
- Liquidity: Access to cash with little to no fees/penalties that allow retirees to meet any unforeseen expenses.
- Growth: Assets that grow over time allow retirees to meet discretionary expenses in retirement and can be used to leave money to heirs at death. These assets tend to be riskiest to allow for the most growth.
- Income: Income ensures that essential expenses are met no matter what happens with market-based assets.
Each of these objectives is best met through products that optimize for that objective. Diversifying across a portfolio of products helps you meet your goals. Some complicated products available in the market today promise growth, liquidity and income all wrapped into one. However, diversification within one product typically leads to a confusing, expensive offering that never meets any one objective as well as other products uniquely suited for an objective.
The taxation of annuities depends first and foremost on whether the annuity was purchased with pre-tax or post-tax money. If the premium was paid with post-tax money, as with a non-qualified annuity, the portion of any income payments that constitutes a return of that premium will not be taxable. This is not the case for QLACs, which are qualified annuities purchased with pre-tax retirement savings. Because the money used to fund the annuity has never been taxed, all distributions from the annuity will be fully taxable at ordinary income tax rates.
You should consult a tax professional for complete information regarding annuity taxation as it applies to your personal situation. At a high level, each phase of the QLAC contract and its corresponding tax treatment can be understood as follows:
Purchase: At purchase, pre-tax funds will be moved from one type of qualified retirement account to another. Traditional IRAs, 401(k)s, and QLACs all have the same tax status, so moving money among them will not incur any taxes or penalties.
Deferral: No taxes will be owed during the deferral period. QLACs do not have an account value that accumulates, so there isn’t actually anything to tax.
Annuitization: Once the QLAC is annuitized, i.e. income payments begin, taxes will be owed. Each distribution from the annuity will be taxed as ordinary income according to your applicable tax bracket. These taxable distributions will be reported to you and the IRS by your insurance company using tax form 1099-R.
Death Benefit: For QLACs with a Refund at Death (a.k.a. return of premium and/or death benefit riders), beneficiaries will receive any remaining value in the contract in the case of the annuitant’s premature death, amounting to the difference between the initial premium paid and the cumulative income payments received. Any death benefit owed will be paid directly to the beneficiary, thereby avoiding the probate process. The beneficiary can elect to annuitize the death benefit over his/her life expectancy instead of taking it as a lump sum. Either way, the annuity contract will typically be included in the deceased’s estate, and the beneficiary will be taxed on any proceeds they receive at ordinary income tax rates.
QLAC Options & Payout Drivers
The income offered on QLACs will vary over time as market conditions change, being driven most notably by longer-term Treasury and investment grade corporate bond yields. In addition, your personal attributes (age, gender) and the policy options you select will impact the quote.
Understanding how your personal attributes and the options you select drive quotes enables you to structure the policy to best suit your needs. Expect to have to think about the following when evaluating a QLAC:
Income will decline as you age. The longer you wait to buy, the less time the insurance company will have to invest your premium before beginning income payments. Holding all else equal, buying income today will be cheaper than buying the same amount in the future.
Income will be higher for males than females. Because women have longer life expectancies than men, the income women receive each year will be smaller.
Income will increase with higher premiums. A portion of the insurance company’s expenses incurred are fixed per contract such that incremental premium can go entirely towards buying income. Said another way, there is usually a discount for larger premium deposits. There are a number of insurers, on the other hand, that price in a linear fashion. That means that small purchases get the same relative value as large purchases. Where or not an insurer prices this way is noted in the details of the quotes.
Income will be higher for single life than joint life policies. A joint life policy will provide income as long as either person is alive, which is almost certainly longer than if contingent on one person.
The income level following the loss of the first life can be designed to remain level or decrease. Opting to reduce the income upon the passing of the first spouse (typically to 40-99% of the starting income level) allows for a greater income level while both are alive.
An alternative to buying a joint life annuity is to purchase a single life annuity with a Refund at Death (a.k.a. cash refund or death benefit) and designate your spouse as the beneficiary. Upon your passing, he/she will have the option to continue the contract in his/her name until the benefit has been paid out.
Income can be based purely on lifespan or can have a guaranteed component:
- Life Only: payments stop at death (or later of two deaths for joint)
- Life with Refund at Death: additional guarantee over life only that pays beneficiaries the difference between the premium and sum of all payments already received upon insured’s death
Income will be lower for richer guarantees. Adding a Refund at Death increases the amount the insurer expects to pay you. To compensate for the extra guarantee, they will need to lower the recurring payments.
Most insurance carriers offer an inflation adjustment or annual increase rider that will adjust the QLAC income payments annually for inflation. The adjustment made could be predetermined (between 1-5%) or in some cases be based on a Consumer Price Index. Providing these increases will require a lower starting income.
Because inflation affects the purchasing power of money, it presents a challenge for retirement, which could last 40 years. While we’re currently experiencing a period of low inflation, it’s averaged 3.2% over the past century, meaning that prices have almost doubled every 20 years.
Adding an inflation rider to your QLAC is one way to mitigate the risk of declining purchase power, but it’s probably not the most efficient way as the extra protection will come at a cost. Consider instead more direct ways to earn inflation-adjusted dollars. Your Social Security benefit, for one, will be indexed for inflation through a Cost of Living Adjustment. And, for the rest of your assets, maintaining exposure to equity markets and investing in inflation-linked bonds, such as TIPS or I-Bonds, can provide an effective hedge.
Depending on the product, you may see some other benefits included in the QLAC. These benefits are generally included in the cost of the annuity. Some examples include:
- Income Start Date Adjustment: Many insurers will afford you the one time opportunity to move up or back your income start date by up to 5 years.
- Additional Premium Payments (Flexible or Subscription): With some carriers you have the ability to fund your QLAC over time, either through a flexible premium option or on a subscription basis. This is a good approach for those betting on pricing improvements or anticipating converting more of their IRA into income as it grows over time.
Finally, you’ll usually notice an inverse relationship between the creditworthiness of an insurer and the income they offer. Insurers with higher credit ratings have earned them by maintaining higher capital reserves and more conservative investment portfolios limiting their profitability and thus the income they can offer you. Only QLACs from highly-rated insurers (A.M. Best rating of at least A) make the cut for inclusion on the Blueprint Income platform. And, even among the insurers we’ve decided to work with, it’s worth distinguishing among the levels of financial strength. The guaranteed income you’re promised is only as good as the financial strength and longevity of the insurer backing it.
Insurers Offering QLACs
The following insurers offer QLACs that are available on our platform, with A.M. Best ratings shown:
- AIG (A) – American Pathway Deferred Income Annuity
- Guardian (A++) – The Guardian SecureFuture Income Annuity
- Lincoln Financial (A+) – Deferred Income Solutions
- MassMutual (A++) – MassMutual RetireEase Choice
- Mutual of Omaha (A+) – Deferred Income Protector
- New York Life (A++) – Guaranteed Future Income Annuity II
- Pacific Life (A+) – Pacific Secure Income
Insurers not on our platform offering QLACs include Brighthouse, Northwestern Mutual, and Thrivent, among others.
QLAC Online Buying Tips
It’s now possible to make your Qualified Longevity Annuity Contract purchase online. Instead of in-person meetings and paper applications, we’ve built the technology to provide you real-time quotes online and generate your application for the insurer digitally. We’re licensed to provide these products to you, and we’re available via chat, email, or phone to provide personalized assistance.
Here is the process to secure your QLAC online:
- Run quotes using the free QLAC Quote Tool.
- Review the details of the annuities and your quotes.
- If you’re not ready to buy, you can lock in your quote for 7-14 days with the “Lock Quote” feature. Keep in mind that in order to get these locked rates, a completed application needs to be accepted by the insurer before quote expiration.
- Once you’re ready, click “Apply” on any new quote or locked quotes in your account.
- Fill out the online application in under 10 minutes.
- Our team will follow up to confirm your purchase and submit the application to the insurer(s) on your behalf.
Buying a QLAC is a long-term commitment, so dedicate enough time and attention to doing it right! In addition to being available to help walk you through the process, Blueprint Income has compiled a list of things to keep in mind:
Annuities must be specifically designated as QLACs to qualify for this special treatment. If you bought a product that wasn’t labeled a QLAC, it can’t be reclassified.
QLACs are offered by leading insurance companies, including Guardian, Lincoln Financial, MassMutual, Mutual of Omaha, and Pacific Life. Before you buy, you’ll want to compare quotes and product features – and remember, not all companies sell all products in all states.
QLACs are sold via insurance agents, brokers, and financial advisors. It’s also possible to shop for a QLAC online via our website. We limit our product offerings to only those sold by top- rated insurers (A.M. Best rating of at least A), and our QLAC Quote Tool allows you to easily compare quotes side-by-side.
Some financial products are too unique to be compared to one another, but this isn’t the case with QLACs. You should be able to see quotes from different carriers that are exactly the same in all major respects except two: price and credit rating.
It can be enticing to just go with the company that offers the highest payout, but be careful. The value of a QLAC is undeniably linked to the claims-paying ability of the insurance company. The insurer needs to be around at least as long as you are!
If you’re still years away from retirement, are optimistic about pricing improving, and/or would like to diversify across carriers, you can buy QLACs in pieces over time. Keep in mind that, all else being equal, waiting to buy will reduce the amount of income the insurance company can offer. In addition, the pricing might not be quite as good at smaller purchase sizes.
401(k) plan sponsors are currently not required to offer QLACs to their employees and adoption has been slow. If you are looking to use funds in your 401(k) to buy a QLAC, you have a few options:
- Roll your 401(k) funds into an IRA. You will then have to wait until January 1st of the next calendar year to purchase your QLAC. Don’t forget the QLAC limits that apply, so ensure you are transferring enough into an IRA account that allows you to purchase a QLAC for the value you want. For example, in order to purchase a $145,000 QLAC, you’d need to have at least $580,000 in your IRA.
- Talk to your benefits department and ask them for more retirement income options within your 401(k). Supply follows demand!
- Have Blueprint Income write a letter to your plan sponsor. We are happy to send benefits departments more information on the QLAC product and why it makes sense to include in 401(k) plans. Just send us an email ([email protected]); we’d love to hear from you.